Walking the Walk

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Sheryl Garrett, founder and CEO of the Garrett Planning Network, hosted a webinar this summer about the Institute for the Fiduciary Standard’s new Best Practices Affirmation Program in conjunction with group President Knut Rostad and board member Mary Malgoire. As the title suggests, the program aims to help advisors show they are compliant with the institute’s 12 Best Practices for Fiduciary Advisors.

In this era of fiduciary confusion — with differing standards proposed or in place for RIAs (the ’40 Act), brokers (SIFMA), retirement advisors (DOL) and now financial planners (CFP board) — the best-practices program strives to help investors understand the benefits of working with a fiduciary advisor and to identify advisors who are committed to acting in their clients’ best interests.

To find out more about the program, I spoke with Knut from his home office in Bethesda, Maryland. Before we got started on the nitty-gritty of the advisory world, I had to ask him how one becomes founder and president of a fledgling organization trying to drag the financial-services industry into the 21st century.

Expecting the standard answer from a broker turned independent advisor, I was surprised when he replied: “After college, I got a job in Washington, D.C., as what you might call a lobbyist-lite … in public affairs, advocacy and communications.

“By 2004,” Knut said, “I was looking to get into the advisory industry, and Don [Rembert, former partner of Lynn Hopewell with the advisory firm Rembert Hopewell] was looking for a new compliance officer at his firm. The SEC had just released a new compliance rule for RIAs, and everyone was scrambling to figure out what it meant. I pointed out that I knew nothing about RIA compliance, and he responded that thanks to the new rule, no one else did either. And besides, they had outside counsel to help sort it out. So, I took the job.”

Knut continued his work with Don on the fiduciary issue. The culmination of their efforts was the creation of the Committee for the Fiduciary Standard led by Kate McBride, who used to work for this publication and now runs the consultancy FiduciaryPath, and Harold Evensky, a financial planner in Coral Gables, Florida, and former CFP Board chair.

“The committee just seemed to come together spontaneously, after some of us met at a conference in May of 2009. We launched a month later,” Knut told me.

“We were an informal group of like-minded colleagues who advocated for a fiduciary standard for all retail financial advisors,” he recalled. “In 2009 and 2010, we took meetings with SEC commissioners, the SEC chair and the top brass at FINRA, and many of us started thinking, ‘Hey, they agree with us.’”

According to Knut, “It was at this point that some members of the committee felt there was light at the end of the fiduciary tunnel. In 2007, the FPA had won its lawsuit against the SEC [preventing it from expanding the ‘broker exemption’ to cover managing investments]. The CFP Board came out with a fiduciary duty for CFPs in 2008. Now FINRA was on board, and Dodd-Frank became law in July 2010.

“My sense was that many of us didn’t think there was a next step. In retrospect, we didn’t appreciate how fervently the other side was about not letting a bona fide fiduciary standard infiltrate brokerage sales,” Knut explained.

“The history is important here,” he said. “The FPA’s ‘victory’ enabled brokers to claim they had a fiduciary duty, but it was/is only part time: It didn’t, and still doesn’t, apply when they are ‘selling’ products. The SEC was actively redefining ‘best interest’ to mean simple disclosure of conflicts. And the Dodd-Frank mandate for a fiduciary duty for brokers had been turned into greater scrutiny for RIAs.”

In fact, what happened next was a classic case of the old business adage “Agree to anything, but have your lawyers draw up the contract.” The securities industry happily backed a fiduciary duty for brokers and then lobbied for rules to be written so that it could continue business as usual.

The only solution that Knut and some others could see was to create a permanent legal entity to advocate for a full-time fiduciary standard for all retail advisors. So, they formed the Institute for the Fiduciary Standard (or IFS) in 2011 to fight for a best-interest standard.

“We advocated, of course, but soon focused more on research and education to help fill a knowledge gap. The indispensable role of ‘free speech’ is clear — not so much for ‘fiduciary duties,’” he explained.

A Simple Solution

But creating the best practices was only the first step. As the securities industry, CFP Board and others have demonstrated, anyone can claim to be a fiduciary acting in their clients’ best interest. But how can clients know their advisors are actually doing it?

Identifying advisors who are — or are not — acting in their clients’ best interests is no easy matter. It requires either massive enforcement staffs (SEC and FINRA), relying on client complaints and other agency enforcement actions (the CFP Board), or expensive and timely civil lawsuits under the ’40 Act.

Consequently, it presents a tremendous challenge for a small, new and non-regulatory group such as the IFS. I mean, how in the world are they going to determine whether advisors who say they follow the best practices are really doing so?

The institute came up with, dare I say, a brilliant solution. “We were at an institute board meeting, talking about the alternatives for creating a strong incentive to comply with the best practices, and kept coming up with things we couldn’t or didn’t want to do,” Knut said. “And then someone said, ‘Why don’t we just have them put the best practices on their Form ADVs?’ The room got quiet, and we knew we had a solution.”

The ingenuity of the ADV solution is twofold. First, all the IFS has to do to affirm compliance is to look at the ADVs posted on advisors’ websites. As for verifying actual practices, I’m reminded of a presentation I once heard by securities attorney Brian Hamburger of MarketCounsel: “If you put something on your ADV — say, that you’ll rebalance your clients’ portfolios every quarter — and you don’t do it and you get sued, you will lose. Period,” he said.

By requiring that advisors commit to best practices on their ADVs, the IFS has effectively enlisted the courts, SEC and FINRA as its enforcement arms. As I said, brilliant.

Knut pointed to the benefits of being a best-practices advisor: “The program restores a commonsense meaning of ‘advice.’ It provides true fiduciaries with a platform to help lead the movement for professional advice. It separates advice from sales, providing investors with a way to evaluate and screen advisors. And, it provides true fiduciaries with a straightforward way to differentiate what they do from what others say.”

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